IRS issues new guidance on tax treatment of cell phones

The Internal Revenue Service (IRS) has issued guidance and also a new memo which together clarify the tax treatment of cell phones provided by employers and cell phone reimbursement plans.

Notice 2011-72[1] builds on last year's legislation, the Small Business Jobs Act of 2010[2], which removed the listed property requirements for business use of cell phones effective for tax years beginning after December 31, 2009. In this new guidance, the IRS explains that the value of cell phones provided by an employer to an employee where the usage might be both business and personal can be specifically excluded from the employee's gross income if there are substantial reasons relating to the employer's business for providing the cell phone.

Examples of such substantial reasons include but are not limited to:

The employer needs to contact the employee at times for work-related emergencies.

The employer requires that the employee be available to speak with clients at times when the employee is not in the office.

The employee needs to speak with clients located in other time zones at times outside the employee's normal work day.

Note that a cell phone provided as a non-business-related benefit is not considered a tax-free fringe benefit.

In a memorandum[3] issued on September 14, 2011, the IRS provides audit guidance to examiners regarding the deductibility of cell phones provided to employees and reimbursements given to employees for the business use of their personal cell phones.

When employers require employees to use their personal cell phones for business use and then reimburse them for the cell phone expense, IRS examiners should analyze the reimbursement in much the same way as they would analyze the cost of a cell phone provided by the employer, based on the guidance provided in Notice 2011-72.

IRS examiners are advised to be on the lookout for particular situations. They should look for:

Employers who, because of this new guidance, choose to divert a portion of existing salary income to a reimbursement for cell phone use, with the presumable goal of providing the employee with some non-taxable income.

Reimbursements for employee personal cell phone use that exceeds the actual cost of the cell phone.

Reimbursement for employee personal cell phone use that includes expensive items that are clearly discernable as non-business use, such as international usage when the company has no international business, or purchased apps that do not have a relationship to the business.

Reimbursements that are unusually sporadic in nature, such as a reimbursement of $100 per quarter in quarters 1 through 3, followed by a reimbursement of $500 for quarter 4.

The information set out in the guidance for cell phones provided by an employer and the memo regarding reimbursements for personal cell phones and related examination issues is retroactively effective for tax years beginning after December 31, 2009.